Short selling constraints, divergence of opinion and gains to acquisitions

Abstract

In this thesis, I examine whether specific variables that have been directly identified as factors that have a bearing on asset pricing constitute significant determinants of short and long ran gains to acquisitions. Existing literature, starting from Miller (1977), explicitly associates these factors, namely the degree of short selling constraints and disagreement among investors, with overvaluation and asset pricing bubbles. Along these lines, I examine whether these also determine the degree of overpricing of acquiring firms prior to acquisitions and thus their subsequent performance around the acquisition announcement and in the post-acquisition period. In this investigation I control for a number of distinctive characteristics and performance determinants identified in the literature related to gains to acquiring firms. Results indicate that indeed binding short selling constraints and high divergence of opinion about the value of an acquirer leads to its stock being severely overpriced in the pre-acquisition period or around the announcement. This rationally leads to extensive underperformance in the post acquisition period. My evidence can help explain several anomalous stock return patterns related to acquisitions and suggest that the success of an acquisition in terms of creating value for shareholders can be to a large extent determined by the extent of disagreement between investors about the price of the acquiring firm's stock preceding the acquisition announcement.